How the downgrade affects insurers

Guy Carpenter has a concise briefing on how the U.S. debt downgrade will affect insurers. Highlights:

  • Minimal impact on (re)insurer ratings. S&P’s capital charge from the downgrade is usually less than 1%, meaning the rating agency thinks companies would have to hold about 1% more capital than they needed to hold last week. Since companies hold far more capital than the S&P minimum, this shouldn’t be a big deal. A.M Best doesn’t think the debt downgrade will lead to actions against insurers.
  • Best ran a scenario analysis assuming a downgrade to AA- (S&P downgraded U.S. debt to AA+.) Fifty insurers (Best isn’t naming names) “had BCAR values that declined 50 points or more – or their BCAR values are at or below technical minimums.” (BCAR is Best’s model for determining how much capital an insurer needs.) Obviously, Best is looking into those companies further.
  • Liquidity is currently not an issue.
  • Balance sheets should be minimally impacted. Most companies hold Treasuries at book value, so a fall in Treasury prices – precipitated by the downgrade – would reduce companies’ assets, and in turn, their surplus. However, most Treasuries have risen in value through the year, so a falling Treasury price would just give back some of the profits already booked.
  • Carpenter presumes the downgrade will cause the dollar to fall. If it does, non-US companies doing business here benefit – their U.S. liabilities shrink relative to their home currency. And U.S. companies become cheaper, thus more susceptible to foreign acquisition. I’ll add that there’s lots of calamity in the market, so a weaker U.S. dollar is hardly certain.
  • As U.S. assets are presumably riskier, most of the rest of the world’s “low risk” debt is suddenly riskier. Long-term, that means insurers would need to hold more capital. Carpenter notes that would be a bigger issue for life companies than property-casualty.

Updates: III comments here. Key quote:

So, even when envisioning an extremely unrealistic scenario whereby all U.S. government bond holdings were valued at half their nominal value, P/C insurers would still have the assets needed to cover all of their liabilities, plus a “cushion” for unexpected claims equal to $500 billion, the rough equivalent to 12 Katrinas, the costliest natural disaster in U.S. history.

NAIC wipes away the worries here. The quasi-uber-regulator focuses on a couple of technical issues – risk-based capital and asset valuation reserves, both of which require more capital to be held if one is holding weaker assets. But NAIC says the downgrade will not require any more assets to be held.

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